Payments Practices in International Trade:
To succeed in today’s global marketplace exporters must offer their customers attractive sales terms supported by the appropriate payment method to win sales against foreign competitors. As getting paid in full and on time is the primary goal for each export sale, an appropriate payment method must be chosen carefully to minimize the payment risk while also accommodating the needs of the buyer.
During or before contract negotiations, it is advisable to consider which method in the diagram below is mutually desirable for the exporter and his customer. International trade presents a spectrum of risk, causing uncertainty over the timing of payments between the exporter (seller) and importer (foreign buyer).
To exporters, any sale is a gift until payment is received. Therefore, the exporter wants payment as soon as possible, preferably as soon as an order is placed or before the goods are sent to the importer.
To importers, any payment is a donation until the goods are received. Therefore, the importer wants to receive the goods as soon as possible, but to delay payment as long as possible, preferably until after the goods are resold to generate enough income to make payment to the exporter.
Some of the methods of Import Payments are as follows:
- Open Account
- Documentary Collections
- Letters of Credit
- Cash in Advance
- Import/Export on Consignment Basis
An open account transaction means that the goods are shipped and delivered before payment is due, usually in 30 to 90 days. Obviously, this is the most advantageous option to the importer in cash flow and cost terms, but it is consequently the highest risk option for an exporter. Due to the intense competition for export markets, foreign buyers often press exporters for open account terms since the extension of credit by the seller to the buyer is more common abroad.
Seller draws documents related to export of goods. Seller instructs his banker to send the documents on collection basis to the buyer/importer’s banker. Documents are handed over to the importer by his banker on payment or acceptance to pay on a future date. Importer clears the goods with customs. Terms could be ‘Documents against Payment’ (DP) or ‘Documents against Acceptance’ (DA) as agreed between the exporter and importer.
Letters of Credit:
Under an import letter of credit, importer’s bank guarantees to the supplier that the bank will pay mentioned amount in the agreement, once supplier or exporter meet the terms and conditions of the letter of credit. LCs can be on DP or DA terms. DP LCs are also known as sight LCs. The issuing Bank will part with the documents against payment or acceptance as per LC terms.
Cash in Advance:
Cash in advance before shipment may seem to be most desirable methods of all, since the shipper is relieved in collection problem and increase risk of buyer. thus cash in advance lacks competitiveness; the buyer may refuse to pay until merchandise is received.